Gross Says Diversify From Dollar as Deficits Surge

June 3 (Bloomberg) -- Bill Gross, founder of Pacific Investment Management Co., advised holders of U.S. dollars to diversify before central banks and sovereign wealth funds ultimately do the same amid concern about surging deficits.

Treasury Secretary Timothy Geithner’s plan to bring the budget back into balance won’t be successful as consumers shrink spending and the U.S. growth rate slows, Gross said in a Bloomberg Radio interview today. The budget deficit will be narrowed to “roughly” 3 percent of GDP from a projected 12.9 percent this year, Geithner said June 1.

“I think he’ll fail at pulling a balanced rabbit out of a hat,” Gross said from Pimco’s headquarters in Newport Beach, California. “They are talking about -- once the economy in the U.S. renormalizes -- the move back toward balance or much less of a deficit. I suspect that will be hard to do.”

Higher savings rates and an increase in the cost to service the national debt will drag on the U.S. economy, likely meaning “trillion-dollar deficits are here to stay,” Gross wrote in his June investment outlook posted today on the firm’s Web site.

Gross, manager of the world’s biggest bond fund, said on May 21 the U.S. will “eventually” lose its AAA credit rating after Standard & Poor’s lowered its outlook on the U.K.’s AAA to “negative” from “stable” amid an escalating ratio of debt- to-gross domestic product. While U.S. marketable debt is at about 45 percent of GDP, annual deficits of 10 percent will push the amount to 100 percent within five years, a level that rating companies and markets view as a “point of no return,” he wrote.

‘Years to Come’

Government spending will push the budget deficit to $1.845 trillion in the year ending Sept. 30, according to the Congressional Budget Office.

Federal Reserve Chairman Ben S. Bernanke said today that large U.S. budget deficits threaten financial stability and the government can’t continue indefinitely to borrow at the current rate to finance the shortfall.

The U.S. growth rate “requires a government checkbook for years to come,” Gross wrote. Coupled with Medicare and Social Security entitlements, government borrowing could reach 300 percent of GDP, meaning “the Chinese and other surplus nations cannot fund the deficit even if they were fully on board,” he wrote.

China, the largest U.S. creditor, with $767.9 billion of debt, has shifted purchases of Treasuries into shorter-maturity securities amid concern about unprecedented debt sales.

Yield Curve

Geithner, speaking yesterday in an interview in Beijing with Chinese state media outlets, said he has “found a lot of confidence” in the U.S. economy during his trip to China.

Investors should position themselves in the front end of the yield curve as long-term Treasury yields likely move higher, steepening the so-called yield curve, Gross wrote.

Gross reduced his holdings of government-related bonds in the $150 billion Total Return Fund in April for the first time since January, according to company data. In addition to Treasuries, the government debt category can include inflation- linked Treasuries, so-called agency debt, interest-rate derivatives and bank debt backed by the FDIC.

Yields on benchmark 10-year notes climbed as high as 3.75 percent on May 28, the most since November, rising from a record low of 2.04 percent on Dec. 18. the 10-year yield dropped three basis points today to 3.59 percent today.

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